ASLE - AerSale Stock Plummets On Sky-High Expectations

2023-08-10 18:07:22 ET

Summary

• AerSale Corporation's Q2 2023 financial results showed a 50.3% decrease in revenues, but the company's value extraction model and growth opportunities make it an interesting investment.
• The Boeing 757 P2F program triggered a guidance downgrade for 2023.
• AerAware, a product offering airplane modifications and a wearable heads-up display, has promising progress and could be a significant revenue generator for the company.

AerSale Corporation (ASLE) is one of the companies that I have been bullish on. Unfortunately, due to reallocation of funds, I sold my AerSale position early in July. The decision to sell was not inspired by the company's financial results, but the most recent reduction in share prices could make a compelling case to retake my speculative position in AerSale. In this report, I will be discussing why I remain interested in the stock.

AerSale Q2 2023 Financial Results

Looking at the ASLE Q2 revenues , we see that revenues were down 50.3% missing analyst estimates by $5.4 million. However, the AerSale's financial results do not quite lend themselves well for year-over-year comparisons as asset sales tend to be lumpy and thereby result in big year-over-year variations. The total revenue in Asset Management Solutions show this clearly with a 67.6% reduction in revenues. This difference was driven by $92.5 million in sales for three airplanes and three engines in Q2 2022 compared to four engines in Q2 2023.

TechOps showed a 28.7% increase in revenues driven by higher MRO Capacity as AerSale prudently assesses where to deploy its capacity. In an effort to efficiently extract value, the company has chosen to focus on using its capacity for aftermarket services while subcontracting some conversion work for freighters to third parties. I believe that is wise decision-making. Either way, even while engaging in prudent placement of capacity and placing each asset in a line of business where they make most sense from a financial perspective, we did see a 50% reduction in sales.

What Are The Growth Drivers For AerSale?

To me the reduction in AerSale's stock price is a bit of a surprise. AerSale has a value extraction model that gives the company many options to extract value, but that does not mean that the company is completely shielded from external pressures. The Boeing 757 P2F program is an example of that.

The Boeing 757 passenger-to-freighter conversion program or P2F is a growth opportunity for the company. Currently, there are delays in the conversions and there was some headwind in H2 2022 for feedstock availability. With airplane shortages which are not getting much better given the Airbus delivery and program delays and Boeing's most recent problems with the Boeing 737 MAX , acquiring feedstock at attractive prices can be a challenge, but this year should be better and with airplane shortages, there are also opportunities for MRO as airlines are keeping airplanes in the fleet longer requiring more maintenance activities than initially planned for. Overall, with the cargo demand cooling it is harder to sell these airplanes, but leasing is an option as well.

AerSale reduced its guidance for 2023 to expected revenues of $400 million to $440 million and adjusted EBITDA of $40 million to $55 million in 2023. This updated guidance takes into account softer freight market demand that is anticipated to delay our previous estimates of the delivery and sale of our 757 P2F converted aircraft.

The company previously expected to sell six converted freighters and lease another three to operators. That has now been reduced to three sales and three leases. The softer market conditions are the main reason, though timing of the freighters being available to operators also made deals less likely to close this year.

As pointed out in my previous coverage of AerSale, what I liked about AerSale is that the business provides an integrated solution. With feedstock, the company can either decide to lease the airplane to an operator, part it out or convert it. So, the company always has a solution for its feedstock. The Boeing 757 offers opportunities as an airplane in the express logistics chain for e-commerce growth, but there are also risks. Engine availability could drive up costs and cost of conversion could in the current inflationary environment also be higher while macroeconomic headwinds could reduce demand for the converted airplanes as we are already seeing currently.

So, that is something that should be kept in mind. Either way, even with lower P2F demand in the current environment where airplanes are higher in demand than OEMs can supply, AerSale has some flexibility to optimize its on-airport MRO business and let the conversions be done by subcontractors. This basically means that the capacity for conversions is being subcontracted so that the MRO business can focus on servicing in-fleet airplanes.

What makes AerSale a highly interesting name to consider for investment is its AerAware product, which consists of some airplane modifications in the radome and a wearable heads-up display for a pilot which improves situational awareness through improved vision in low-visibility conditions. Initially developed for the Boeing 737NG or Boeing 737 MAX, the Enhanced Flight Vision System provides AerSale with a big addressable market for a product that should be high margin.

The only drawback is that the commercial rollout of this product is one that is unknown. AerSale is going through the certification of the product now, but the process of cumulating flight hours has been rather slow. So, it is a project that is promising, but its revenue generation depends on certification, though I do believe that we are closing in on commercialization. No AerAware sales have been projected for 2023, but that is not because no sales are expected at all but because AerSale does not want to conduct issuing forecasts which include products that are not yet certified.

AerAware Progress Looks Promising

I started buying shares of AerSale by the end of April and the only reason why I am buying is the prospect of AerAware. I think otherwise I would not be a buyer. So, AerAware is also what I want to hear more about every call, and we got some very useful information. For 2023, 100 AerAware kits were targeted, and the company is already at 55 after Q1 with a production rate of 15 per month. Last quarter I pointed out that the actual production this year could be closer to 200 than to 100 and that really does provide some positive light on the ability to supply in large quantities as some operators have large fleets that will not activate the AerAware product until a significant portion of its fleet is equipped. The company now aims for 150 to 160 kits this year.

Right now, one more set of flight tests is required, which would finalize the flight test campaign if everything goes smoothly. The final set of flight tests could already occur this month, and then it should take 30 days to obtain the STC (Supplemental Type Certificate). It is not the case that from that point on there will be a huge flow of kits going to customers, since there is an installation effort as well as a training effort involved. The big question after the STC is issues will be the ramp-up path for AerAware revenues. While installing the product with a big operator might seem to be preferred, installation with a smaller operator could result in a faster revenue flow if the revenues recognition is subject to certain milestones.

Is AerSale Stock A Buy?

The short answer is: Yes. I entered some fundamental data for AerSale and expectations for AerSale into the evoX Financial Analytics tool. And based on the results from that dynamic model, we get a price target of $11.84 for AerSale providing 10% upside for 2023 even with the reduced expectations. However, I will also be the first to say that this company only carries significant upside in my view with AerAware sales perhaps this year and else most definitely from 2024 and ahead. If it were not for AerAware, I would have zero interest in owning stock of AerSale.

Conclusion: AerSale Is An AerAware Buy

Last quarter, I pointed out that converted freighters sales might be a bit tougher, and overall, the leasing revenues are under some pressure as AerSale in many cases opts for a more rewarding solution of selling the asset and the second quarter results saw the connection reductions in guidance for 2023. So, in that regard the 2023 downward revision were already somewhat anticipated but the big thing for AerSale is going to be AerAware without doubt. The certification does seem to be getting closer, which I consider to be a positive after a much-delayed testing path.

AerAware will have a high margin and a big addressable market for the Boeing 737, which can be expanded towards other airplane models. AerAware should become the next big thing for AerSale and makes AerSale Corporation stock a buy in my view. The stock price target for 2023 also shows that without AerAware and a pressured cargo market, AerSale Corporation stock is far from attractive, providing only 10% upside, while 2024 would show AerAware-driven upside of more than 100%.

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